IO2PI rollover updates

Discussion in 'Property Market Economics' started by TheSackedWiggle, 6th Feb, 2019.

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  1. Redom

    Redom Finance Strategist Business Member

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    @TheSackedWiggle - the most interesting thing about the arrears rate is:

    - 15% of all loans in the country have already converted to P&I. The total conversion will end up around 17-20%, so essentially at a macro level most of the conversion has already been done.

    - Through the above structural adjustment to loan portfolios in Australia, arrears rates have barely moved. In terms of actual impact on financial stability, they haven't moved at all. You need arrears rates about 600% higher than where they are to have this.

    Now arrears is definitely a 'lag' indicator. It happens later. But the adjustment has largely already been made and no material movement in arrears. This is because the economy has remained strong and proved to be a resilience buffer to arrears/forced selling. Add to that the 'new listings data' is down ~10-20%, most owners aren't in a rush to the exits. Total listings are up of course, thats always the case in down markets given the longer selling times. More interesting & relevant data to the IO2P&I issue is whether there's been an increase in new listings associated with changes in debt terms..the answer to that is a NO too.

    Overall, some of the big dark gray clouds that you've rightly pointed out over the past 12 months are starting to clear. The IO2P&I adjustment is largely over (thanks for posting this data), the RC is gone with no recommendation on lending standards & the construction cycle is about to fall of a cliff in 2020. Lending standards are already beginning to open up for those that pay attention too (at the margins) & the interest rate bias has now shifted to a cut. There's been no real change to migration figures yet too. Yes there is an election issue on housing too that will cause some adjustment too, thats worth noting.

    If the economy can whether this all (unknown) & jobs growth rampages along in NSW & VIC...you have a lot of the negative factors gone & some real plus factors showing up soon along with a relative affordability adjustment associated with a 15% nominal price fall, a 3-5% nominal income rise & rates falling/similar over the past 18-24 months.

    All of this is bound to happen anyway, its just the property cycle playing out. I think you were largely right about these dark clouds, its led to a relatively large price fall too (and its not all over, but lots of it are clearing)
     
    Last edited: 7th Feb, 2019
  2. Redom

    Redom Finance Strategist Business Member

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    New listings have dropped significantly. I agree it's an important measure. You've picked the wrong stat though, that stat is a reflection of longer selling times, not how many new listings there are.
     
  3. TheSackedWiggle

    TheSackedWiggle Well-Known Member

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    there is still close to 320bn+? old IO loans originating from 2014/15/16 (based on imaginary expense) yet to expire this year till 2021,
    unless this expiry is blindly renewed without fresh assessment(based on real expense) the risk remains,
    what am I missing?
     
  4. Redom

    Redom Finance Strategist Business Member

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    Whats new about that? You're talking about something that happens every year? IO2P&I happens all the time. Its just part of our lending market.

    More importantly, according to the data you've posted, there's FAR less IO terms rolling over to P&I this year than the past 18 months. The past 18 months saw the biggest adjustment to IO2P&I in Aussie lending markets ever. 15% of the total stock of mortgages is massive. This year you'll see 3-5% adjustment (max).
     
  5. TheSackedWiggle

    TheSackedWiggle Well-Known Member

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    I am talking about the risk of remaining IO loans (originated under old assessment) not able to renew under new assessment based on real income and forced to go PI, and the some of these investor not able to sustain the 40% increased repayments leading to forced sale scenario?
     
  6. Redom

    Redom Finance Strategist Business Member

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    Yes thats true, and a worthwhile point. There may be micro market consequences from this though associated with over leveraged investors in certain markets. It could congregate in specific areas.

    What I'm saying is, in a macro context and the impact on the housing market, reading the data you've posted, that will have very little impact on the market as a whole. There's just a very small stock of IO loans swapping onto P&I terms now. The vast majority of this has already happened.
     
  7. Redom

    Redom Finance Strategist Business Member

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    In general, you've made a lot of comments about 'headwinds' & 'risks' to housing.

    I think they've been quite accurate and a true reflection of whats going on in the market. I certainly believe the stock of IO debt was a problem. The same data sets you've used to make your points are beginning to tell a different story.
    • IO2P&I - nearly done
    • Interest rate rises - realistic possibility of this in 2019 gone, 2020 unlikely now
    • Peak supply - nearly done
    • Lending/credit tightening - now swinging the other way
    • Royal Commission - no further impact
    • Labor government --- ?????
    Some of these impacts have rolled through and have had their impact. Housing has had a big correction associated with the above.

    It has a few months to go to really play out (given the state elections & momentum change), but those same headwinds are clearing.
     
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  8. TheSackedWiggle

    TheSackedWiggle Well-Known Member

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    Thanks a lot for the conversation @Redom, its always very educational.

    I was digging into some reports, not sure if its was rba/arpa or some bank, it mentioned there was a total of 480bn IO loans(based on old assessment) which was set to expire from 2018 till 2021, approx 120bn each yr,
    even after preemptive rollover, as per last quarter this 480bn was reduced to 350+ bn, so majority of this rollover risk asset is still yet to expire, I don't have figures for this quarter, will post it If I find it.
     
  9. Redom

    Redom Finance Strategist Business Member

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    Thats the April 2018 RBA speech. Yes it was certainly an issue.

    On a macro level though, the best way to measure it is 'what quantum of loans are swapping from IO to P&I'.

    The answer to that is:

    - In 2017 post June to Feb 2019 -- A LOT, 15% of ALL mortgages. Wow. This must've been a factor in the market decline, its a massive adjustment to mortgage terms in Australia. No noticeable arrears increase though.

    - In Feb 2019 to Dec 2020 -- A little, 3-5% of ALL mortgages.

    At a micro level, it still is. Some investors are over leveraged and may need to sell. Our own live data based on user data from MoneyBRAINS says it's a very small minority. Bank data by CBA suggests the same.
     
  10. MC1

    MC1 Well-Known Member

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    This is what he doesn't get
    So far we have very little trouble renewing IO loans for clients to new terms. Yes some have had to reduce or close existing liabilities like credit cards due to the higher living expenses at play, but apart from that no real problems.

    The IO 2 P&I Falling of a cliff is a great headline though
     
  11. Redom

    Redom Finance Strategist Business Member

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    Its a 2017 & 2018 headline and issue. 2019 & 2020 not so much. Generally, this has surprised me a bit, I thought it'd flow through to this year & next, but the stock IO adjustment has been rapid.
     
  12. Redom

    Redom Finance Strategist Business Member

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  13. TheSackedWiggle

    TheSackedWiggle Well-Known Member

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    thanks a lot @Redom for clarifying this.

    The macro issue bothering APRA about the total % of IO loans on banks book may have subsided (aka preemptive rollover due to penalising rates etc.) and IO limits now back to 30% of loan book,
    but the micro issue related to this rollover still remains.
    There is still close to 350+ bn old loans expiring in 2019/20/21 which requires fresh assessments based on real expense. Lets see how this unfolds.

    appreciate your response mate,
    will continue to monitor this area I think the damage is not done yet.
     
    Last edited: 8th Feb, 2019
  14. Harry Marcus

    Harry Marcus Member

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    I'm refinancing at the moment and am certainly not seeing a 0.05-0.010% variance between IO and P&I, in fact, much closer to the 1% mark. What banks are you referring to?
     
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  15. Redom

    Redom Finance Strategist Business Member

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    Fixed products usually, between larger banks. E.g CBA 4.04-4.09 vs 3.99 fixed.
    Variable about 20-30bps still, but gap is falling.
    100bps difference is a lot.
     
  16. TheSackedWiggle

    TheSackedWiggle Well-Known Member

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    Interest-only loans worth $230 billion 'trap' 650,000, warns Morgan Stanley


    About 650,000 borrowers with loans totalling around $230 billion are 'trapped' in their interest-only loans and could struggle to refinance, forcing many to sell into already deteriorating property markets, according to investment bank Morgan Stanley.

    Borrowers will need to extend the interest-only period, switch to a principal and interest loan or find a buyer for their property as their low rate terms expire, warns the analysis, which was done in conjunction with AlphaWise, a customised researcher for hedge funds and finance companies.

    "Almost half of interest-only borrowers are 'trapped'," the analysis warns.


    About 650,000 borrowers are trapped by interest-only loans. Gabriele Charotte

    "These households appear high risk on a variety of metrics, and we expect added selling pressure on the housing market when their interest-only periods expire in the next two years."

    The warning came as ratings agency Standard & Poors said the housing downturn was the main risk facing banks, not the banking royal commission, and Fitch downgraded NAB.


    Tougher conditions
    It comes as Commonwealth Bank of Australia, National Australia Bank and ANZ are warning mortgage brokers, who account for about 60 per cent of new loans, about tougher lending conditions in "line with its responsible lending obligations".

    Lenders are under growing pressure to improve their lending practices, particularly how they scrutinise lender applications and reimburse mortgage brokers, after the Hayne royal commission revealed systemic problems.

    The Australian Securities and Investments Commission's new prescriptive lending guidance warns the controversial household expenditure used to check borrowers' capacity to repay a loan is too low and not an appropriate estimate of loan applicants' living expenses.

    In addition, the federal government has told the banks and regulators there will be a fresh industry inquiry in three years to ensure they have improved their behaviour and are treating customers better.

    Standard & Poor's, the rating agency, is warning banks will act in a "very cautious and conservative way" over the next two years because of the increased regulatory and shareholder pressure to boost responsible lending and minimise systemic risk.

    "So even if there there is no change in regulation, we believe the banks will ... be cautious, and as a response there will be some depression on credit growth, which is already depressed compared to what we have seen in the past couple of years," according to Sharad Jain, director of financial institutions ratings.

    "We see a scenario where there is rapid unwind [of housing] as most plausible scenario for what can go wrong for banks in Australia," he said, adding that prices will continue to fall.

    Downgraded outlook
    The sober assessment came after fellow ratings agency Fitch Ratings downgraded its outlook on NAB's long-term default rating from "stable" to "negative" on Friday. This reflected the "risk that NAB's focus on remediating issues and changing culture means its ongoing operations may not receive sufficient management time, resulting in a weakening of NAB's earnings relative to peers," Fitch said.

    [​IMG]


    The Morgan Stanley analysis revealed tighter credit conditions, potential deterioration in housing sentiment and pressure on household finances with more than six-in-10 respondents having issues getting a mortgage over the past year.

    About 80 per cent of interest only borrowers and 70 per cent of investors found banks either limited credit or refused loans.

    Nearly half of interest-only borrowers would prefer a principal and interest loan but were either refused by the bank or could not manage the higher repayments.

    "These trapped borrowers make up 11 per cent of all mortgage holders and appear higher risk," the analysis warns.

    Typically, they have higher leverage, higher debt-servicing, lower savings and a more optimistic price outlook.

    When their fixed term ends a "significant portion" will be forced to sell if they cannot extend their loan or sell the property if they are unable, or unwilling, to switch to a principal and interest loan.

    "This will put further pressure on an already deteriorating housing market," it states.

    "Given their apparent higher risk, while they remain active borrowers, they are likely to have a higher chance of default or arrears."

    Nearly half spend an amount equivalent – or more – than their income, one-in-three spend more than half of income on repayments and only 14 per cent expect prices to fall.

    Stricter controls
    Major lenders are currently writing to mortgage brokers advising about increased scrutiny of borrowers.

    For example, NAB is changing to credit policy "to ensure responsible lending" while ANZ has sent brokers detailed updates on verifying loans, "enhanced inquiries" into borrowers' future finances and more details about their financial circumstances.

    A borrower with an interest only loan pays only the interest, which means monthly repayments are lower than principal and interest. They typically have a term between one and five years.

    About $706 billion of loans were written at the peak of the recent residential real estate property boom between 2014 and 2015, when property prices in major cities were fuelled by record low interest rates, easy credit and optimism, according to separate analysis.

    Major lenders competing for market share offered cheap introductory interest only fixed rate terms, other financial incentives, such as waiving fees, and were accommodating in their scrutiny of a borrowers' income and expenses.

    But regulators imposed lending caps after warnings from the Reserve Bank of Australia about record levels of household debt increasing financial vulnerability to a change in personal circumstances or sharp economic deterioration.

    They also found that fewer than half of borrowers have plans about how to repay the principal.

    An increasing number of borrowers facing refunding pressure are turning to regulation-lite shadow banks that are two-and-a-half more times likely to approve a home loan than a big four competitor, according to Canstar, which monitors rates and products.

    Interest-only loans worth $230 billion 'trap' 650,000, warns Morgan Stanley
     
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  17. Redom

    Redom Finance Strategist Business Member

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    I read that yesterday. There’s close to no additional meaningful analysis (compared to cba data) from the article though - it doesn’t say anything that hasn’t been mentioned or isn’t known. It could have been 2017 reporting really. Ideally it would have shown how 2019 expiry % compares to a usual year of (I’d suppose it’s always around 20-30% given 5 year IO terms).

    Speaking to people daily about this, it’s rare that we actually ever talk to a borrower who says ‘I’m going to sell now that I’m paying P&I’. This would probably be older borrowers who have a bit too much leverage who comes to this conclusion or seriously over leveraged investors.

    But one real practical reason we hear often is how changes in lending standards have restricted flexibility and the ability to adjust. That is, i actually think a bigger reason to ‘sell’ is the ‘adjustment opportunity cost’

    For example, one family decides that they want to move cities and buy something else. Or perhaps they want to upgrade their home, or even just move to a new lower priced suburb for work...these reasons trigger debt adjustments often. Adjusting debt is more difficult if you can’t pass current benchmarks. These changes effectively make it less flexible for borrowers who in turn may deleverage to get what they actually want again.

    The IO2P&i issue is about affording debt. With current rates and a big rate drop over 5 years, very few have issues with this. Also in general, a lot just don’t mind paying P&I given it’s effectively forced savings at marginally lower rates.
     
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  18. MC1

    MC1 Well-Known Member

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    1. I believe I am one of the 650,000. I am certainly not trapped however so it should read 649,999

    2. Half of interest only prefer P&I but were refused???? Its a simple switch (tick and flick) with your current lender to P&I. !!

    Cool story though Morgan Stanley.

    Riveting stuff wiggle
     
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  19. euro73

    euro73 Well-Known Member Business Member

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    It isn’t written well, but I think they are saying that existing IO borrowers seeking P&I over a new 30 year term with their existing lender or by refinancing to a different lender , are being refused . Obviously there’s no “permission” or “approval” required if you are just automatically reverting to P&I after an IO period expires, so it goes without saying that there can’t be a refusal under those circumstances.

    There’s a lot of debate on these forums about the size and seriousness of IO to P&I over 2019 and 2020 and to be frank I don’t think anyone knows how it will play out. Just like the risk to OTP settlements , I would suggest it’s not as minor an issue as some argue .... but whether it’s a huge issue remains to be seen. It seems to me that it’s logical to assume there will certainly be at least some some stress on some heavily leveraged investors who loaded up on IO debt and bought low yielding properties in 2014and 15 , and I would imagine some SYD and MEL FHBs who piled into huge mortgages in 2014 and 15 using IO may also be at risk , but we will all have to wait and see how it unfolds throughout 2019 and 2020
     
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  20. mickyyyy

    mickyyyy Well-Known Member

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    A friend that works for a large mortgage organisation (cannot give too much detail) told me 45% off applicants cannot service their existing debt...